Turkish Banks WHO HAS IT? Sertan Kargın [email protected] +90 (212) 317 69 37 Banks Ali K
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9 November 2005 Sector Report Aslı Sipahi [email protected] +90 (212) 317 69 34 Turkish Banks WHO HAS IT? Sertan Kargın [email protected] +90 (212) 317 69 37 Banks Ali K. Akkoyunlu [email protected] The Turkish banking sector has completed its initial +90 (212) 317 69 33 transition phase, but there is more to come The Turkish banking system has undergone a phase of structural evolution since the financial turmoil of 2001. The introduction of a comprehensive series of measures for the restructuring and rehabilitation of the banking system has triggered a consolidation process through mergers, takeovers and co-operation agreements, improving allocative efficiency in the financial system. Free equity, deposit franchise, and spreads on TRY business are key value drivers The opening of negotiations with the EU, the introduction of the mortgage system and new tax scheme on savings instruments in 2006, along with growth of free equity, widening deposit base at optimal spreads and improving cost efficiency are set to be the growth catalysts of the Turkish banking sector. The widening deposit base, together with an ongoing spread compression process, will provide better grounds for higher banking franchises, and in turn sustainable profitability in the core banking business. Meanwhile, private commercial banks’ attempts to increase their fee & commission income appear not to secure sustainable profitability in core banking business, providing a limited contribution to bank franchise values. In our view, a meaningful Turkish Banking franchise must have an optimal NIM of 6.0-8.25% This estimate is based on duration-adjusted cash flow stream on spreads, and can be maintained with a large free capital base and strong market share. Based on these estimates, Akbank, Is, and TEB have the requisite structural dynamics. Akbank, Isbank and TEB (all Strong Buy) are our top picks in the sector, as all three contemplate strategic business initiatives consistent with the features of the new banking landscape. TEB is maintaining its healthier growth process, whilst sticking to low-cost banking management that provides a higher upside potential compared with its peers, Finansbank and Denizbank. Akbank and Isbank have the best margin mix and wider deposit base among the large-scale banks, strengthening their franchise values. Currently, Garanti is more focused on high-margin TL assets with its strong positioning in SME and retail loans. We believe that with its partnership with GE, the bank could potentially boost its banking franchise and in turn achieve higher core banking profitability. Share Target P/BV ROAE TRY Price Rating Price Upside 2005E 2006E 2007E 2005E 2006E 2007E Akbank 9.2 Strong Buy 11.4 24% 2.7 2.3 2.1 24.3 27.4 27.9 Isbank 10.0 Strong Buy 12.1 21% 2.2 1.8 1.6 13.6 16.1 18.1 Garantibank 4.2 Outperform 4.9 18% 2.4 2.0 1.7 21.0 24.0 23.0 Finansbank 4.7 Neutral 5.2 10% 3.3 2.7 2.2 30.5 31.9 30.4 TEB 17.7 Strong Buy 23.4 32% 2.2 1.9 1.6 20.0 19.5 19.3 Denizbank 8.0 Outperform 9.0 13% 2.4 2.1 1.9 21.3 24.8 27.3 Average 2.6 2.1 1.8 21.8 24.0 24.3 Turkish Banks, 9 November 2005 SUMMARY AND INVESTMENT CONCLUSION We are initiating our coverage of the Turkish banking sector with an Overweight recommendation. As presented in this report, despite the strong performances of the bank stocks over the past year (89%), we believe there remains substantial value to be created with some potential upgrades underway in 2006. In our base case scenario, Turkey’s dual anchors, together with its structural reform program, will likely pave the way for further and sustained economic and political reform, providing a major boost to Turkey’s non-inflationary economic expansion. Strengthening recovery in Turkey’s economic and institutional fundamentals, together with lower financial intermediation costs, will improve the allocative functions of the financial system. The Turkish banking sector has completed its initial transition phase, but there is more to come. The sector is about to complete its initial consolidation phase, with new foreign banks expected to enter the market to compete for a slice of the pie in the next couple of years. Thus, the sector appears to be maintaining its growth path for the foreseeable future, while competition is becoming more intense than ever, due to technological advances, sophistication of customer needs, new entrants and industry deregulation. Not only will the competition enhance the quality of banking services, but also operating efficiency in the sector will approximate global standards. There are still many small, medium-sized and large banks that have yet to identify a firm position in the sector. These smaller banks will have a more difficult time maintaining their current positions in terms of revenue, profits and overall market share. They will initiate the search for mergers, while medium- sized banks will seek better ways to grow. This reality translates into the fact that size and scale will become crucial strategies for the future prospects of the Turkish banking sector. We believe that in an improved banking business environment, Akbank, Isbank and TEB are clearly the main beneficiaries of macro stability. Akbank (Strong Buy) and Isbank (Strong Buy) are well positioned with their best business mix. We strongly recommend Akbank as a pure banking play, since it is well positioned with core interest revenues making up 53% of its margin mix, and it also comfortably covers its operating expenses with core banking revenues. Isbank has the best margin mix among the large scale banks, while its strong performance in achieving healthier NIMs and its decision to deploy more capital to its core banking business (representing the revenue earned from the loans given to the “non-financial private sector”) seems to strengthen its franchise value for the foreseeable future. Garanti (Outperform) will move into an inorganic asset growth trajectory in the near future with the GE deal. Garanti currently seems more advantageous in terms of high yielding margin mix in the lucrative TL lending segments – such as retail and SME loans - compared to its peers (Akbank and Is Bank). However, the bank has still some difficulties in penetrating TL time deposits due to its less aggressive pricing strategies. With its partnership with GE, it could have the opportunity to register strong upsides in the near future. TEB (Strong Buy) is growing at a sustainable pace, and its shares offer an attractive combination of value and growth. What differentiates TEB from its peers, Finansbank and Denizbank is its sustainable asset growth trajectory and conservative stance on the cost management front. With the current balance sheet structure and growth strategy in core banking business, the bank is using the right policies, consistent with the arithmetic of the Turkish banking industry. In our view, although TEB shares have shown a strong performance they are trading below their fair value and at a discount when compared with Finansbank and Denizbank. 2 Turkish Banks, 9 November 2005 Denizbank (Outperform) has so far improved its business mix very successfully, with core banking revenues reaching 60% of total banking revenues. The Bank has also achieved a respectable TRY market margin. We believe that the current stock price reflects the strength of its franchise. However, we are concerned over whether this aggressive growth strategy could pressure its ability to maintain banking profitability in an environment where diseconomies of scope and high concentration exist. Finansbank (Neutral) has so far registered an impressive growth performance and created substantial value for its shareholders. Yet the existence of diseconomies of scope and high concentration in the banking sector raise concerns about the sustainability of the bank’s core business profitability. More importantly, we see an inconsistency between the bank’s deposit franchise and its efforts to expand the branch distribution network. 3 Turkish Banks, 9 November 2005 VALUATION Our key valuation methodology is based on the Dividend Discount Model (DDM). We prefer to use a DDM & Sum of the Parts (SOTP) Model for Isbank, due to a number of substantial non-core assets, and for Finansbank, Denizbank and TEB, for their cross-border banking operations, which we believe is an important factor in their valuation. Also note that we have used BRSA non- consolidated financials. Our model is based on a 10-year earnings growth (2005-2014) and 60% dividend pay-out ratio for each bank. The cost of equities for each bank varies between 14% and 16%. These comprise 10% of the risk free rate, the beta of each bank, and a 5% of equity risk premium. Table 1: Dividend Discount Model TRYmn NPV of NPV of Total (*)Current Upside Dividends Perpetuity Participations NPV Market Cap % Akbank 7,815 12,774 - 20,588 16,560 24 Isbank 8,059 11,671 4,027 23,757 19,689 21 Garantibank 3,753 6,571 - 10,324 8,736 18 Finansbank 1,570 2,580 751 4,901 4,465 10 TEB 434 774 142 1,350 1,023 32 Denizbank 1,014 1,636 195 2,846 2,529 13 Source: YF Research (*) Current value is the value as of 07.11.2005 We also used a comparable analysis so that it provides a cushion for our valuation methodology. The banks under our coverage trade at an average 2.6 and 2.1 P/BV for 2005 and 2006, respectively. Finansbank appears to be trading above the trend line and supports our neutral recommendation. Although Akbank’s P/BV is slightly above average, with a higher ROAE it supports its upside potential.